Question

Sierra Semiconductors produces 200 comma 000 highminustech computer chips per month. Each chip uses a component that Sierra makes inminushouse. The variable costs to make the component are $ 1.40 per​ unit, and the fixed costs are $ 1 comma 300 comma 000 per month. The company has been approached by a foreign producer who can supply the​ component, within acceptable quality​ standards, for $ 1.00 each. If the company chooses to​ outsource, fixed costs can be reduced by 30​%. There are no other uses for the facilities currently employed in making the component. What would be the effect on operating​ income, if the company decides to​ outsource?

Answer 1

Operating income will increase by $470,000 in case the production of component is outsourced.

Step-by-step explanation:

Provided information we have,

Number of high-tech computer chips produced during a month = 200,000

Component required to make that product,

Details of component,

Variable cost = $1.40 per unit,

Cost for 200,000 units = 200,000
`*` $1.40 = $280,000

Fixed cost = $1,300,000

Total cost of producing = $1,580,000

In case of buying option, we have,

Buying cost = $1 per unit = $1
`*` 200,000 = $200,000

Also add: unavoidable fixed cost = $1,300,000
`*` 70% = $910,000

Total cost of buying = $1,110,000

Benefit in case of buying = Cost of manufacturing - Cost of buying = $1,580,000 - $1,110,000 = $470,000

Thus, in case company outsources such production then there will be increase in operating income by $470,000 as cost will be reduced by such amount.